Deep breaths for National Bank of Canada investors. The news this morning that the bank is doing a $1.3-billion deal with troubled online loan company Lending Club isn't what it seems.
As part of its quarterly earnings, Lending Club revealed that National Bank's U.S. consumer finance subsidiary, Credigy, "has approved investing up to $1.3-billion (U.S.) to be deployed on the Lending Club platform over the next twelve months," adding that the money will add to Lending Club's "investor capital mix."
Read one way, the language suggests Credigy is taking an equity position in Lending Club, a company that matches online users looking for up to $40,000 each, with a mix of investors who are willing to lend.
Asked to clarify what precisely is going down, a National Bank spokesperson made it clear in an e-mail that there are "no equity stakes, this is solely to purchase loans." What's happening, then, is that Credigy is buying consumer loans through the Lending Club platform, applying its own loan selection criteria in the process.
Buying loans is much different from taking an equity position. This way, National Bank, through Credigy, will be responsible only for the performance of specific borrowers. While we don't know much about the loans Credigy will buy, the spokesperson said they will all have a prime credit profile.
And to put this in context, National Bank's current personal loan portfolio, which includes lines of credit as well as credit cards, totalled $33-billion (Canadian) at the end of last quarter.
Had Credigy acquired an equity stake, the bank would have gotten exposure to Lending Club's total performance, and that likely would have been a much riskier bet.
When the company went public in 2014, there was a lot of fanfare about its future because it was riding the so-called "fintech," or financial technology, wave. However, its stock practically capitulated shortly after listing on the New York Stock Exchange. As of Monday morning, the shares are down 78 per cent from their peak in late 2014.
Despite the hype behind the innovation driving its loan platform, one of the reasons Lending Club got into trouble is that people started analyzing the money it doled out to borrowers. Eventually, it became clear some borrowers had more than one loan through Lending Club – and these loans were treated independently of one another.
This was seen as troublesome because in finance, loans are typically ranked by seniority. If the first loan costs the borrower say, 5 per cent in interest a year, the second usually costs more, because the lender behind the second loan is only likely to be repaid if the first loan gets paid back.
A spokesperson for Lending Club noted in an e-mail that the company "allows a maximum of two consecutive loans for a total of $50,000. Two different loans may well carry different interest rates, since a person's FICO score may have changed in the interim." However, a group known as the Financial Genome Project started running the numbers on Lending Club's portfolio and found 30,000 that likely involved repeat borrowers, as Bloomberg Businessweek explained this summer.
Lending Club also ran into leadership issues. Around the same time these discoveries were made, Lending Club's chief executive officer resigned, partly for failing to disclose related-party transactions, such as executives taking out loans without disclosing they weren't from new customers, and its chief financial officer left soon after.